Institutional EYE

Commentary on Corporate Governance Issues

Tata Group: Game of Thrones

November 7, 2016

Cyrus Mistry’s position as Chairperson of listed companies of the Tata group is now being questioned. Whatever be Tata Sons’ opinion in this matter, IiAS believes independent directors of the listed companies must provide comprehensive guidance to shareholders on whether Cyrus Mistry should remain Chairperson. And, if boards of listed Tata group companies are divided in their of support Cyrus Mistry, there is a risk of boards becoming dysfunctional which has operational implications for the companies.

Cyrus Mistry’s ouster in Tata Sons as Chairperson and Executive Director has raised several questions. For investors in the seven major listed companies, the immediate question is whether he will remain Chairperson and its consequences. The Tata Sons (Tata Sons or Tata group or group) has stated that Cyrus Mistry was removed because of a ‘growing trust deficit’, and because of ‘repeated departures from the culture and ethos of the Tata group’. Having said this, the group has left itself with no option but to push for his removal from the boards of group companies.

To pass a resolution supporting the removal of Cyrus Mistry as director with a 51% majority, the Tata group will need shareholders support – it owns about 30% - 35% of equity in the listed companies of the group, other than in Tata Consultancy Services.

Independent Directors of the listed companies need to provide guidance As a dominant shareholder with over 30% holding in each of the companies, the Tata group can call an extraordinary general meeting and present a resolution to remove Cyrus Mistry as a director. But, for the resolution to pass, it needs the support of at least 51% of shareholder votes i.e those present and voting.

When and if, a proposal is put to shareholders to vote, IiAS believes the independent directors of the listed companies need to provide shareholders with guidance on how they should vote on a resolution to remove Cyrus Mistry as Chairperson – independent of whether the company or Tata Sons presents the resolution. To that extent, Indian Hotels Company Limited’s (IHCL) Independent Directors’ public stand on the Cyrus Mistry’s position in IHCL is a step in the right direction.

The Independent Directors, in forming an opinion, will likely consider Cyrus Mistry’s performance during his tenure, and whether his strategy for the company is the best possible strategy given where the company is. They will also likely consider the issues raised by Tata Sons directors, and then make a balanced decision. IHCL’s Independent Directors, in reposing full confidence in Cyrus Mistry, will no doubt have done this - and more.

The reasoning behind Tata Sons’ decision to remove Cyrus Mistry as Chairperson and Executive Directors is yet unknown publicly2: Tata Sons’ board is asking investors to blindly trust them. IHCL’s Independent Directors – who individually command the same public stature as that of Tata Sons’, and one of whom is on the board of two Tata Trusts (Annexure C) – have reposed their confidence in Cyrus Mistry. Stakeholders are baffled by this discord, not knowing which side to believe – the independent directors of listed Tata company boards, or Tata Sons.

The conflict will have operational implications even as Boards risk becoming dysfunctional The boards of listed companies risk becoming dysfunctional, if independent directors and the Tata Sons nominees hold divergent views on their support to Cyrus Mistry, or even if Independent Directors differ within themselves on this debate. This will have consequences.

Tata group companies’ ease of access to finance and the cost of finance tend to be favourable – driven by the implicit understanding that these belong to the Tata group, and that credit support from group companies will always be available, whether explicitly provided or not.

But, there is now, a real possibility that boards of listed companies may choose to ignore Tata Sons. This is likely to make lenders nervous, and they may show restraint in extending any further credit, until there is clarity regarding the evolving relationship between Tata Sons and the operating businesses. This will have operational implications for listed companies – on 31 March 2016, the Tata group of companies had outstanding debt aggregating around Rs.2.5 trillion, of which about 24% is due within twelve months. Consequently, it has implications for India’s banking system.

Tata Sons diminishing control

The relationship between the operating companies and the group is symbiotic. The group no doubt defines these operating entities – but the companies also defines the Tata group.

If shareholders do not support the resolution, Cyrus Mistry will continue as Chairperson on the seven listed companies’ boards. If so, Tata Sons’ control over the listed companies may diminish and the question will be: are these then Tata companies? At the extreme, this may create an alternate power structure raising fear of a throwback to when Ratan Tata took control after battling satraps including Russi Modi, Ajit Kerkar, and Darbari Seth.

Investors can take comfort that the listed companies are of reasonable size and have the ability and the talent to chart their own course. Much like several other Tata Group companies, these seven companies do not need Tata Sons control at the Chairperson level.

Others will view the whole as being greater than the sum of its parts. It is in this context that there is value in having the Chairperson of Tata Sons as the Chairperson of the listed company is more than just board control – it signals the importance of that company in the pecking order of the Tata group, and the immediacy and level of support that it can garner from group. Equally, important it gestures the adherence to a set of values.

Will Tata Sons’ continued silence cause it to be unseated?

While one may argue that it is the responsibility of independent directors to understand the basis of Tata Sons’ decision, it is equally important for Tata Sons to communicate to its companies’ boards the rationale to dethrone Cyrus Mistry. Tata Sons can begin by sharing the details of the board evaluation, and the process it followed to conclude that Cyrus Mistry must be unseated.

Tata Sons’ silence has not only led to excessive speculation, but is possibly haemorrhaging the current chain of command within the group. With public perception veering towards Cyrus Mistry, the Tata group needs to provide factual and cohesive information supporting its decision to balance the discourse. Else it must back down.

A century-old reign risks being unhinged on one decision

The Tata group has held a totemic position in corporate India for over a century. But this one action – of unseating Cyrus Mistry – is allowing stakeholders to doubt the Tatas. What seems to be most unsettling is the abruptness of the decision and the limited communication that has followed. Given that all facts are not available, IiAS believes it is impossible to decide whether the Tata group made the right decision or not.Yet, in its silence, the group is testing the limits of stakeholders’ faith in the brand. While skeptics will doubt and believers will believe, the group has hinged its public equity on this decision.

Purging the opacity of Tata group’s governance structure and chain of command

The current uncertainty is, no doubt, troubling for all stakeholders While investors have had a broad understanding of the working dynamics, there was no need to establish clarity since the group was operating under an accepted status quo.

IiAS believes that the end of this boardroom war will bring clarity to markets on the terms of engagement between the three power structures - Tata Trusts, Tata Sons, and the listed Tata group companies. This will also determine how succession planning will happen in the three entities. And it will answer who sits on the Iron Throne.